What to do in the Coming Financial Earthquake

20170627_world

I’ve written a number of articles over the past year on the looming problem of the Chinese debt situation. It’s currently just shy of 300% of GDP and this doesn’t bode well for domain investors reliant on cheap Chinese capital to purchase their domains at hugely inflated prices. So should we really panic?

Escrow.com

I saw the following charts in a recent Bloomberg article that puts the Chinese debt problem into perspective. What’s interesting about this chart is that China’s flatter line shows that it’s not getting as big a GDP bang for its debt buck compared to some other nations. Also notice that Germany is retiring debt even while sharply increasing its GDP per capita.

GDP to Debt

The USA is continuing to increase debt while getting a lot of GDP per capita from it.....but the debt still continues to increase. At some stage the piper has to be paid and if the current trends continue it will be more when not if.

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HRMInc
Wow. I sure hope you're wrong Michael... but we are taking your comments very seriously and and planning accordingly.
01 July 2017
mgilmour
I hope I'm wrong as well.....
03 July 2017
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Is the Global Economy About To Crash?

Is the Global Economy About To Crash?

I watched the recent debate between presidential hopefuls Hillary Clinton and Donald Trump. Since I live Australia, you may ask why? I wanted to see whether either of the two candidates really seemed to understand the economic knife edge the world is currently balanced upon. Sadly, I was disappointed in what both of them had to say.

Other than a number of sound-bites there was nothing on issues such as China’s burgeoning debt Crisis and the impact this will have on the global economy.

Back on the 11th May 2016 the Financial times reported the Chinese Communist party’s flagship newspaper, the People’s Daily, published a front-page interview with an “authoritative figure” who warned that the country’s soaring debt levels could lead to “systemic financial risks”. This doesn't sound good....

On the 29th August the Australian Financial Review reported that prominent investor, George Soros, as seeing an “Eerie resemblance between conditions in China now and those in the US leading up to the financial crisis in 2008.” Remember, Mr Soros was the man that broke the bank of England in one of his currency trades.

What’s concerning is that Chinese debt levels are around 282% of GDP and China still hasn’t taken the foot off the debt accelerator. For example, right now debt is growing at around 13% and the IMF is forecasting China’s growth to drop to a 25 year low of 6.6%. This roughly means that it takes $2 of debt to fund $1 of growth….clearly unsustainable.

Some people are sitting back and saying, “So what! It’s China, that’s not us.” This is a naïve perspective of a highly interconnected world. As the world’s second largest economy (after the US) if China screeches to a halt then it will impact everything and I mean everything.

So what does this mean for domain investors? You only have to reflect on the last twelve months to see the impact of debt on the domain market. In an effort to get their money out of China and into more flexible assets many Chinese investors raised margin loans against share positions. They then took these loans off market (you can’t do this in most markets) and bid up the prices on short letter/number domains with the ultimate goal of flipping the assets into US dollars.

Last year, I attended DomainFest.Asia and upon returning home my business partner and I sold every domain we could get our hands on at top dollar rates. This year I attended the same conference and I can now buy the domains I sold last year for around 35% of the price I received for them.

So what happened? Debt combined with key market makers is what happened. This created a rapid downward spiral to the present valuations….it will be interesting to see what will happen to the price of all of the Chinese held domains in the event of a Chinese economic meltdown.

I remember writing about the crazy inflationary domain prices post the New York TRAFFIC conference. At the time key market makers pushed up prices and debt first entered the domain space (eg. companies like Domain Capital). This easy access to debt fuelled the price boom in much the same manner as the one Chinese investors just experienced.

So what else am I concerned about? Since the Global Financial Crisis of 2008 I’ve been keeping a close eye on the world’s major central banks as they tried to stimulate their way into recovery. This was attempted through combinations of lowering of interest rates, government spending (fuelled by debt) and quantitative easing (ie. Print lots of money).

Despite the massive injections of stimulus nothing has really worked. As can be seen from the chart below the global growth is still at a lackluster rate of 2.4%. In the case of Japan, the central bank has recently issued negative interest rates. This means it costs you money to keep your savings in a bank…..sounds crazy but true.

Global Growth Rates

The main goal of dropping interest rates is to devalue the local currency by making it less attractive to foreign currency traders. Put really simply, if you can borrow money in the US at 2% and get 3% for depositing it in banks in Australia you can effectively make 1% for doing absolutely nothing. This effectively makes the $AU more in demand and increases the value of the $AU versus the $US.

So when the reserve bank in Australia lowers interest rates the margin gap between the borrowed and deposited money shrinks and this increases the risk. The $AU receives less demand and it sinks in value against the $US. This will ultimately mean that Australian goods and services are cheaper if paid with $US….which in turn stimulates the Australian economy. Sounds great in theory but there’s a problem.

In the case of the Global Financial crisis all the central banks simultaneous dropped interest rates/printed money. This has meant the competitive gap between nations didn’t materialise and central banks ended up scratching their heads while they played a global game of chicken with each other…..who will drop first?

Here’s what I’m concerned about, when central banks approach zero interest rates (or below) where do they go from there? All of their “gun-powder” has been used and we’re now rapidly approaching the 7-8 year economic cycle.

For years, economists have talked about a 7-8 year cycle as being like the heartbeat of the global economy. Guess what, back in 2008 was when President Obama first took office and literally weeks later he faced the sub-prime mortgage fiasco that caused the global economy to nose dive.

So now, after an interminably long campaign, we have Trump and Clinton coming up for election. If we imagine the two candidates as the captains on the economic titanic, as far as I can work out, Hillary is saying, “steady as she goes” while Trump is saying crazy things that amount to, “we need to instantly build a submarine.”

Let’s face it, both candidates are more focused on themselves then acknowledging the global problems that the US is caught up in. Neither is actually espousing a concrete plan with some sense of vision. I’ll be interested in viewing the next round of debates to see if there is any light at the end of the dark tunnel. It's sad to say but I think everything is down to how we all cross our fingers and hope something good will happen.

What the UK Brexit debacle has proven is a lack of decisive leadership around complex global issues leads to disaster. We elect leaders to lead and not to hand back their leadership in a referendum so they can say, “The disaster wasn’t my doing but the people’s”.

My hope is that once elected, either Clinton or Trump will rise to an unseen level of leadership that will inspire the entire US nation rather than foster the division that seems to be prevelant.

There are a lot more economic indicators than I’ve mentioned in this article that are pointing to troubling times ahead. So as a domain investor, what am I doing? Two words, gold and cash.

I could be wrong with all of my doom and gloom but there’s one thing I’ve learned over the years…..I’ve never regretted having excess cash. Cash provides the flexibility to move quickly and seize opportunities. If I’m right and in the first half of 2017 there is a financial meltdown, then there will be bargains aplenty for a person with cash.

I remember after the 2008 crash I picked up heavily discounted domain portfolios as people struggled to pay crazy high mortgages and tax bills. I’ve been enjoying the proceeds of these portfolios ever since. This time I think that I will be also looking at the more traditional markets and once again, domain data will help me pick the right companies to invest in. What I really want to keep an eye on is the Chinese domain market…..will it fall further or are there other opportunities that will play out in a downturn?

Just an aside, a recent report by management consulting firm McKinsey and Co. showed that Israel was one of the few countries in the world that was rapidly retiring debt. There’s one thing I know about the Jewish community, they’re generally pretty savvy when it comes to money.

So reduce debt, get cashed up and hang on for the ride….hopefully the cycle will pan out just fine but if it doesn’t, then make sure you’re ready.

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How Will a Chinese Economic Hard Landing Impact Domain Investors?

How Will a Chinese Economic Hard Landing Impact Domain Investors?

I’ve taken a great deal of interest in the Chinese economy of late and I’ve written a number of articles that outline how everything is not so good in the dragon nation. Debt continues to skyrocket, GDP is levelling off and there appears to be stockpiles of commodities that are unused. So how is this all going to impact domain investors?

Escrow.com

CNBC published an article, “Moody’s raises worries over China loans as Communist party paper calls debt load ‘original sin’”. Within the article, influential investors Kyle Bass and George Soros warn of a credit crisis in China, with Bass noting the presence of “ticking time bombs” in China’s banking system.

What really struck me about the article was the second video where an independent economist, Andy Xie, suggests that China’s real bad loan situation is closer to 20% and not the 1.5% being reported. He then went on to say that over half the loans relate to property and that all across the country buildings empty and that they are being traded like gambling chips. Everyone is hoping that someone else will pay more for the assets.

China Non-performing loans

The Economist recently wrote an article titled, “The coming debt bust”, which outlined the fact that China’s overall debt is 280% of GDP. One scary statistic is that 16% of China’s top 1,000 firms owed more in interest than they earned before tax. Debt levels are expanding twice as fast as the economy. Market Watch recently indicated that it takes four units of credit for each unit of growth.

So will the Chinese authorities be able to manage the economy to a hard or soft landing? They have plenty of ammunition in their reserves (around $3 trillion) but more and more commentators believe that the current regime is playing catch-up to rapidly changing economic circumstances. What everyone appears to be saying is the debt piper is calling….

If there is a hard landing how will this impact domain investors? Since China is the world’s second largest economy we can draw a comparison between it and the US sub-prime fuelled crash of 2008.

For traffic portfolios, Google immediately took greater margin in a great cash grab to help support their earnings. The difference we are seeing now is that Google’s TAC (Traffic Acquisition Costs) has been pushed down to the point where they really can’t increase margins without losing market share to tier two advertising networks. This means that we are unlikely to see a collapse in earnings per click rates induced by Google.

The other factor impacting the advertising auction system is obviously the companies bidding for the traffic. In the event of a crash many companies will immediately hold onto their cash and reduce discretionary spending (which online advertising is often seen as). This will place downward pressure on EPC rates and depending upon competition for the market vertical keyword how far down the rates will fall.

Domain sales will almost certainly experience a sharp correction (especially in the ChiP domains) as debt laden Chinese buyers suddenly become sellers at any price. In many cases, off-market margin loans have underpinned domain valuations and these loans will be called as stocks collapse in value. Chinese investors will be forced to sell domain assets to meet their lenders capital requirements.

Assuming that the world doesn’t go into a global depression, what’s the good news? If you’re cashed up, then there’s going to be a heap of bargains. A good rule is most people make money on the buy not just the sell. In other words, in this type of market there will be domains available that can be snatched up for a song and later sold at an enormous profit.

Whatever happens, make sure you have some cash to ride out the crisis. Some commentators are suggesting that the GFC of 2008 was a tremor before the real financial earthquake.

I know that my wife and I are reviewing our personal financial circumstances to help ensure that we are in a position to weather a global storm. We periodically do this but right now I’m getting a sense of urgency about it. If I’m completely off the mark, then the worse that we’ve done is be financially prudent.

Remember, many people make a fortune in the bad times by being wise in the good times.

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Wolftalker
Informative. Thanks Michael.
24 June 2016
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Part 3 - How A Decline in the Chinese Economy Will Impact Domains

Part 3 - How A Decline in the Chinese Economy Will Impact Domains

This is the third part in a series that examines domains and the Chinese economy. The first two parts can be viewd by clicking on the following links: Part 1      Part 2

The biggest concern with a Chinese economic downturn is the impact that it will have on the rest of the world. As companies reduce spending and hunker down during the economic storm domain valuations will be the recipient of a perfect storm of less demand and massively greater supply courtesy of the new gTLDs.

Escrow.com

If you are considering an offer right now on a domain, then my advice would be to take it, as I believe we will be heading into some rough water over the next couple of years. I’ve never regretted having cash in the bank and if I’m right, then there’s going to be some real bargains available in the not too distant future.

The biggest concern for me is the value of domain traffic in a financial crisis. Users will still have value but I’m concerned whether the value will be fully realised by domain investors in a downturn.

The Global Financial Crisis (GFC) taught us that although domain traffic is valuable (businesses need customers) the position of domain investors in the domain ecosystem is currently quite weak. As the dominant advertising partner, Google is likely to try and take a greater share of the reduced volume of advertising dollars in a difficult market.

This strategy worked in the past because there was excess margin between what Google pays out and second tier advertising exchanges. We are seeing that this is not necessarily the case in every market vertical. Domain investors that leave all of their domains with a single company or try and move them manually between monetisation companies will achieve sub-optimal results.

The challenge for domain investors is to diversify revenue sources so that they are not all coming from a single company. A recent article on the “hidden value of optimisation” clearly showed how optimising across multiple revenue sources effectively hedges against turbulent economic times. In the case of the article it illustrated the cross-rate differential between the Euro and $US as an example.

I’m constantly looking at macro-economic factors that may impact ParkLogic clients and then devise ways to help mitigate any downside risk while increasing the benefits from any potential upside opportunities. It’s what keeps the team awake at night as we dive into not just domain data but data that may impact the value that underpins our client’s assets.

To finalise this series, here is a list of actions that you may wish to consider implementing:

  • Finalise all active domain transactions.
  • Review the prices of all of your domains with an eye to reducing them.
  • Ensure all of your domains have buy it now prices on them.
  • Get all of your domains into each of the active market places.
  • Actively reach out to end users of your domains to market them.
  • Setup a webpage with all of your domains listed and their prices. All “for sale” links on parked pages should point to this webpage. If a potential buyer clicks on one of the domains then it may route through to one of the market places to handle the negotiation etc. This will mean that all of the traffic from potential buyers will be routed through to your domain list and not used to potentially sell someone else’s domain.
  • Outsource all of your domain management (especially for traffic) to a company that actively reduces revenue risk.
  • Do not buy any domains unless you can see a clearly defined exit.
  • Close any developmental projects that have a time horizon greater than 2 months.

I hope that you found the series on domaining and China interesting and thought provoking. I'm looking forward to DomainFest in Hong Kong to test out some of my hypothesis.

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Michael Gilmour has been in business for over 32 years and has both a BSC in Electronics and Computer Science and an MBA. He was the former vice-chairman of the Internet Industry Association in Australia and is in demand as a speaker at Internet conferences the world over. He has also recently published his first science fiction book, Battleframe.

Michael is passionate about working with online entrepreneurs to help them navigate their new ventures around the many pitfalls that all businesses face. Due to demands on his time, Michael may be contacted by clicking here for limited consulting assignments.

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Part 2 – How China’s Looming Debt Crisis Will Impact Domains

Part 2 – How China’s Looming Debt Crisis Will Impact Domains

This is the second article in the series on China. Click here for part 1.

Off the back of all of the China debt crisis, what’s going on in the domain industry? For the past year many western domain investors have been scratching their heads as they tried to work out why the Chinese were buying up all of the 4 letter/number domains.

Escrow.com

Other than a few reasons which were largely due to mysticism and numerology there was no sustainable underpinning of the value of many of these domains. In short, it was spectulation run mad that rapidly pushed up the prices.

Despite the underlying values being questionable there has been a rush by many western domain speculators to register short character domains. The total goal was to then sell these domains to Chinese investors for inflated prices. While some people have made money, many are in the process of losing their shirt as the giant global ponzi scheme comes crashing down.

I recently spoke with a Chinese investor that has over $50m to invest in domains and she indicated that they are putting just about everything on hold to see what’s happening with the market. The domain industry has just experienced a bubble fuelled by cheap money that was looking for another asset class to invest into. The rule of thumb for bubbles is to get in and get out really fast so if you're holding any of these domains then it may be a long time (if ever) before you see a return.

As an example, a number of months ago I sold a whole lot of 4 letter dotcom domains to a Chinese buyer. I recently checked the market and you couldn’t get half the price for those domains now.

I have been upfront in saying that while the cheap money is available then in my opinion sell. It’s not often that you get opportunities like the one that has just past.

What’s really interesting is that many of the Chinese registrars are the companies that are moving massive numbers of the new gTLDs. As an example, registrar west.cn has sold 27.3% of the .xyz domains (1.13m). Congratulations should be made to Daniel Negari and his team as they really tapped into the Chinese market as a place to sell the .xyz brand in a big way.

Likewise, .CLUB has managed to sell over 60% of its domains to Chinese investors. It’s clear why Collin, Jeff and the team have been clocking up the frequent milers to China and back! Like a number of the other new gTLD registries they seized upon the boom time in China as a way to move their stock. It was a fantastic move!

The question that needs to be addressed is what will happen to the new gTLD market in a Chinese bust? Clearly renewals will evaporate from domain speculators and new registrations will return to much more modest levels. But is this really a bad thing?

What the Chinese boom has done for a number of the new gTLD registries like .CLUB and .XYZ is provide a massive injection of capital at a time when they most needed it. A Chinese bust will not be catastrophic for these companies as they've also been focusing their efforts in other parts of the world and in particular end users.

In the next article in the series I will go through what I think is a good domain strategy in the event of a Chinese economic collapse.

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Michael Gilmour has been in business for over 32 years and has both a BSC in Electronics and Computer Science and an MBA. He was the former vice-chairman of the Internet Industry Association in Australia and is in demand as a speaker at Internet conferences the world over. He has also recently published his first science fiction book, Battleframe.

Michael is passionate about working with online entrepreneurs to help them navigate their new ventures around the many pitfalls that all businesses face. Due to demands on his time, Michael may be contacted by clicking here for limited consulting assignments.

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mgilmour
That's a really good chart but only shows government debt to GDP as a ratio. China has the majority of its debt is held by state o... Read More
15 April 2016
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